Friday, 1 October 2010

Mixed News on the Investment Front

The past two weeks have seen some apparent good news in terms of investments in Greece:

·On September 29th, the Public Power Company (ΔΕΗ) announced on a strategic investment of up to EUR 2.0 bln in renewable energy projects in cooperation with EDF Energies Nouvelles, the renewables energy division of Électricité de France(EDF), the world’s largest electricity generator. This cooperation is studying at least two investments: a 250 MW wind park in Florina as well as a hybrid unit in Crete which includes 90 MW generation with energy storage. EDF and PPC are already cooperating on a 38 MW wind park in Beotia.

·On September 23rd, the government signed a non-binding memorandum of interest for up to $ 5 bln with the Qatar Investment Fund. A committee will be formed to investigate likely investment projects in Greece in the areas of tourism, real estate, transport, infrastructure and energy.

·The Skaramanga Shipyards deal was approved by Parliament on September 29th. This allows Abu Dhabi Mar to take control of 75% of the Skaramanga Shipyards, leaving 25% in the hands of Thyssen. The government also approved the order of two additional submarines in addition to the four submarines on order.

·The Prime Minister of China, Mr. Wen Jiabao, is visiting Greece tomorrow, and is expected to announce his support of the efforts being taken to restructure the public sector and improve investment. Among the topics that will be under discussion include COSCO’s investment in Piraeus and other potential areas of cooperation.

As with all things, we need to evaluate these investments carefully:

Renewable Energy and Market Distortion

Although investments in renewable energy are considered a priority sector, this sector is only competitive given subsidies for construction/installation, and/or a green feed-in tariff. The sector remains dominated by a government monopoly, the Public Power Corporation, and a government regulator, which by its own admission faces a critical shortage of staff, and therefore can be inferred not to be working particularly effectively. PPC’s prices are regulated by government, and in past years PPC has incurred major losses as part of a social policy of keeping energy prices low to reduce inflation.

The experience from Spain, Portugal, Germany, the United States and other countries shows that without a long-term, stable incentive (typically in the form of a high feed-in tariff for 15-20 years), renewable energy is still not competitive with coal, natural gas or petrol-fired plants. The over-supply of investment in renewables in these countries has prompted many governments to reduce the green feed-in tariff as unsustainably high, even before the current fiscal crisis hit.

In Greece, therefore, the main risk is that just as the government has unilaterally slowed down VAT reimbursements to enterprises, it will not be able to pass on either the investment incentive, or maintain a high feed-in tariff. The fact that the government is de facto supporting its monopoly, the PPC, also indicates that the future development of this sector will be similar to many other sectors where the government acts through “national champions,” which are typically over-staffed by political appointees, have low productivity, and incur high debt.

We therefore evaluate any investment in the renewable energy sector in Greece as being of high risk, given the public sector framework in terms of pricing and Greece’s deteriorating public sector finances. Any investment in this sector should be designed as far as possible for direct sales to private sector clients, or for export, in order to mitigate risk.

Skaramanga Shipyards

The Skaramanga Shipyards deal is hardly a new investment: it is the resolution of a long-standing legal conflict between Greece and HDW/Thyssen, which has been simmering for at least 7 years now. In order to sweeten the deal and apparently safeguard employment, the government has ordered two new submarines, which it cannot afford, and which it does not need given the far more pressing situation in terms of air superiority in Greece’s national defence policy. Unless Abu Dhabi Mar can bring in new contracts from outside Greece, the impact of this deal—which is again, a government-funded transaction—will merely result in higher government expenditure and major economic problems within 2-3 years. Assuming a 24-month construction period, Greece will be trying to find funding to pay for 2 submarines (at least EUR 800 mlnbefore cost over-runs) in 2013-2014, precisely at the time when it has to roll over the EUR 110 bln bail-out loan as well as other private sector loans. Past government announcements have stated that some of the submarines can be sold onward to third parties: let’s hope this is actually the case.

China / Qatar

In both cases, the initial high potential of investments has proven much more difficult to implement in practice. In the case of COSCO, it found that the militant unions prevented the rapid change of management at the Piraeus terminal, and currently COSCO faces a EUR 38 mln delayed VAT refund. In the case of Qatar and the Astakos port, it found that the prices offered by Greece and other customers for natural gas was less than optimal in terms of market attractiveness.

In both cases, we see that state-sponsored capitalism in Greece is very different from that practiced in Qatar or China, where a government decision can actually be implemented very quickly. The incident of the RhodesAirport driver who apparently crashed his transfer bus into the engine of the Emir of Qatar’s stationary jet, didn’t help matters. The two basic questions for state investors from any country into Greece are:

a.Will the Greek government honour its commitments?

b.Even if its wants to honour them, will the government remain solvent in 2013-2014?

Given all that we’ve seen in the past 12 months, these are not easy questions to answer in the positive sense.

My viewpoint is that although there are definite investment opportunities in Greece, it’s necessary to design the investment taking the following sensitivities into account:

·Don’t count on receiving VAT refunds or investment incentives (grants/loans/tax holidays): if these do arrive, it’s an upside. Design your business plan without them.

·Locate your investment as close as possible to multiple transport links and assure a minimum supply inventory of at least 25-30 days, or enough to ride out the frequent disruptions to the national transport network.

·Structure your product or service offer to avoid high losses due to cut transport links, strikes, power outages, etc.

·Prepare for redundant systems in every area, but particularly for energy generation: install back-up diesel generators or other energy sources.

·Assure that at least 50% of output is exported to reliable markets and customers.

·Have an independent source of working capital, if possible from abroad, because the Greek banking system is no longer able to provide working capital at reasonable rates, and because the future, hidden risks in the system are mounting.

Once these costs are taken into account, it becomes clear that, together with high taxation on corporations (Societes Anonym-S.A.), high payroll taxes and high processing costs for basic elements such as permits, licenses, etc., Greece is not a very attractive place to do capital-intensive business. Although we have been hearing rhetoric from the government over the past 12 months on how it will improve the operating environment, so far nothing has been done, and it’s not clear the government actually understands what needs to be done.

Any investment decision should be approached with caution, a business plan weighted to the downside, and a very strong risk mitigation strategy. The superficially positive announcements made often bear little resemblance to the reality of day-to-day operations in Greece.

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